GAO. DEBT SETTLEMENT Fraudulent, Abusive, and Deceptive Practices Pose Risk to Consumers

Transcription

1 GAO For Release on Delivery Expected at 2:30 p.m. EDT Thursday, April 22, 2010 United States Government Accountability Office Testimony Before the Committee on Commerce, Science, and Transportation, U.S. Senate DEBT SETTLEMENT Fraudulent, Abusive, and Deceptive Practices Pose Risk to Consumers Statement of Gregory D. Kutz, Managing Director Forensic Audits and Special Investigations

2 April 2010 Accountability Integrity Reliability Highlights Highlights of, T a testimony before the Committee on Commerce, Science, and Transportation, U.S. Senate DEBT SETTLEMENT Fraudulent, Abusive, and Deceptive Practices Pose Risk to Consumers Why GAO Did This Study As consumer debt has risen to historic levels, a growing number of for-profit debt settlement companies have emerged. These companies say they will negotiate with consumers creditors to accept a lump sum settlement for 40 to 60 cents on the dollar for amounts owed on credit cards and other unsecured debt. However, there have been allegations that some debt settlement companies engage in fraudulent, abusive, or deceptive practices that leave consumers in worse financial condition. For example, it has been alleged that they commonly charge fees in advance of settling debts or without providing any services at all, a practice on which the Federal Trade Commission (FTC) recently announced a proposed ban due to its harm to consumers. The Committee asked for an investigation of these issues. As a result, GAO attempted to (1) determine through covert testing whether these allegations are accurate; and, if so, (2) determine whether they are widespread, citing specific closed cases. To achieve these objectives, GAO conducted covert testing by calling 20 companies while posing as fictitious consumers; made overt, unannounced site visits to several companies called; interviewed industry stakeholders; and reviewed information on federal and state legal actions. GAO did not use the services of the companies it called or attempt to verify the facts regarding all of the allegations it found. View or key components. For more information, contact Gregory D. Kutz at (202) or kutzg@gao.gov. What GAO Found GAO s investigation found that some debt settlement companies engage in fraudulent, deceptive, and abusive practices that pose a risk to consumers. Seventeen of the 20 companies GAO called while posing as fictitious consumers say they collect fees before settling consumer debts a practice FTC has labeled as harmful and proposed banning while only 1 company said it collects most fees after it successfully settles consumer debt. (GAO was unable to obtain fee information from 2 companies.) In several cases, companies stated that monthly payments would go entirely to fees for up to 4 months before any money would be reserved to settle consumer debt. Nearly all of the companies advised GAO s fictitious consumers to stop paying their creditors, including accounts that were still current. GAO also found that some debt settlement companies provided fraudulent, deceptive, or questionable information to its fictitious consumers, such as claiming unusually high success rates for their programs as high as 100 percent. FTC and state investigations have typically found that less than 10 percent of consumers successfully complete these programs. Other companies made claims linking their services to government programs and offering to pay $100 to consumers if they could not get them out of debt in 24 hours. To hear clips of undercover calls illustrating fraudulent, abusive, or deceptive practices, see Examples of Fraudulent or Deceptive Marketing Claims by Debt Settlement Company New Government Programs! New free and easy programs are available for those who are in debt right now! Take advantage while they re still avaiable. Source: Debt settlement company Web site. Images enhanced by GAO. IF WE CAN T GET YOU OUT OF DEBT IN 24 HOURS We ll Pay You $100 GAO found the experiences of its fictitious consumers to be consistent with widespread complaints and charges made by federal and state investigators on behalf of real consumers against debt settlement companies engaged in fraudulent, abusive, or deceptive practices. Allegations identified by GAO involve hundreds of thousands of consumers across the country. Federal and state agencies have taken a growing number of legal actions against these companies in recent years. From these legal actions, GAO identified consumers who experienced tremendous financial damage from entering into a debt settlement program. For example, a North Carolina woman and her husband fell deeper into debt, filed for bankruptcy in an attempt to save their home from foreclosure, and took second jobs as janitors after paying $11,000 to two Florida companies for debt settlement services they never delivered. Another couple, from New York, was counted as a success story by an Arizona company even though the fees it charged plus the settled balance actually totaled more than 140 percent of what they originally owed. United States Government Accountability Office

3 Mr. Chairman and Members of the Committee: Thank you for the opportunity to discuss our investigation into fraudulent, abusive, and deceptive practices in the debt settlement industry. As historic levels of consumer debt have dramatically increased the demand for debt relief services, a growing number of for-profit companies have appeared, offering to settle consumers credit card and other unsecured debt for a fee as an alternative to bankruptcy. 1 The companies say they will negotiate with creditors to accept a lump sum settlement less than the amount owed purported to be as low as pennies on the dollar in many cases. In addition, these companies often say their programs can result in lower monthly payments for consumers than what they had been paying their creditors, and that their programs will help consumers get out of debt sooner than going through bankruptcy or making only minimum payments on their credit cards. They commonly use radio, television, and Internet advertising to solicit consumers. The marketing claims appeal to consumers who may be vulnerable, given the stress of their financial situations. Some consumers who have hired these companies have complained that they did not obtain relief from their debts and ended up in worse financial circumstances. For example, according to a sworn statement given to state attorneys, a 75-year-old New York woman ended up paying more than $5,100 to a company to settle only $3,900 of debt on one account. The company failed to settle a second one, which she ultimately paid off for about $1,000 more than what she originally owed. At the time she signed up for the debt settlement program, she had been a widow for several years and was working as a pharmacy clerk to help pay her bills and mortgage. She stated that she often neglected her own needs and accrued more debt trying to help her adult daughter care for two children and a sick spouse. She also stated that she was desperate for help and was easily sold on entering a debt settlement program through an unsolicited telephone call and an offer to reduce her debts by 24 to 40 percent. Even though the debt settlement company cost her more than she originally owed, it still counted her as a success story. Federal and state agencies have made allegations that some debt settlement companies engage in fraudulent, abusive, and deceptive 1 Unsecured debts are those debts for which there is no collateral, such as most consumer credit card debt. Page 1

4 practices. You asked us to conduct an investigation of these issues. As a result, we attempted to (1) determine through covert testing whether these allegations are accurate; and, if so, (2) determine whether these allegations are widespread, citing specific closed cases. To achieve these objectives, we conducted covert testing by calling 20 companies while posing as fictitious consumers with large amounts of debt; made overt, unannounced site visits to several companies called; conducted interviews with industry stakeholders, such as industry trade associations and the Better Business Bureau (BBB); and reviewed information on federal and state legal actions against debt settlement companies and consumer complaints. We did not actually use the services of any of the companies we called. For our first objective, we identified debt settlement companies by searching online using search terms likely to be used by actual consumers, and by observing television, radio, and newspaper advertisements. We selected companies from across the nation to call as part of our covert testing by using several criteria, such as (1) types of marketing claims or pitches, such as refund offers, service guarantees, or targeting of specific groups of consumers; (2) presence, if any, of consumer complaints through BBB and other resources; (3) represented size of businesses, to include both small and large companies; (4) availability of consumerfriendly information on companies Web sites, such as financial education resources, comparisons to other types of debt relief, or advice on handling credit card debt; (5) membership in various industry trade organizations, which requires adherence to specified standards of conduct; and (6) claims of advertising presence on television or radio. In one case, we identified a company through a spam message received by one of our staff members, which provided a link to the company s Web site. 2 The 20 cases that we selected incorporated a range of debt settlement companies, including some that appeared to make egregious claims and others that appeared more reputable. We found that some of the 20 companies we called are marketing companies that refer potential clients to other sometimes multiple affiliated companies. In most cases, we were unable to determine the exact business relationship between these entities. For the purposes of this testimony, our 20 cases represent the original company we called, plus any related marketers and any other affiliated companies with which we spoke. In addition, we called some companies more than once, depending on the circumstances. The findings 2 Spam is unsolicited junk that usually includes advertising for some product. Page 2

5 for these 20 cases cannot be projected to all debt settlement companies. For our second objective, we identified allegations against debt settlement companies from review of closed and open civil and criminal investigations pursued by federal and state enforcement agencies over the last decade. We did not attempt to verify the facts regarding all of the allegations and complaints we reviewed. We also identified five closed civil and criminal cases where courts found the debt settlement companies liable for their actions and interviewed affected consumers. We briefed Federal Trade Commission (FTC) officials on the results of our investigation. In addition, we referred cases of fraudulent, deceptive, abusive or questionable information provided by the 20 debt settlement companies we called to FTC as appropriate. We conducted our investigation from November 2009 through April 2010 in accordance with standards prescribed by the Council of the Inspectors General on Integrity and Efficiency. Background For-profit debt settlement emerged as a business model as other, decadesold forms of consumer debt relief came under increased regulation. Traditionally, consumers with large amounts of debt turned to nonprofit credit counseling agencies (CCA) for debt relief. CCAs work with consumers and creditors to negotiate debt management plans (DMP), which enable consumers to pay back unsecured debts to their creditors in full, but under terms that make it easier for them to pay off the debts such as reduced interest rates or elimination of late payment fees. In addition, CCAs often provide consumers with financial education and assist them in developing budgets. In order to qualify for a DMP, consumers must prove they have sufficient income to pay back the full balances owed to creditors under the terms of the potential DMP. As part of a DMP, CCAs contact each of a consumer s creditors to obtain information about what repayment options the creditors may be willing to offer to the consumer. The CCA then creates the final DMP and a repayment schedule, with payments typically spread over 3 to 5 years. Throughout the length of the DMP, the CCA distributes funds to each of a consumer s creditors after the consumer makes each monthly payment to the CCA. Nonprofit CCAs typically receive funding from consumers and from creditors. Many for-profit CCAs emerged as the level of consumer debt rose over the last decade, leading to new consumer protection concerns. FTC and state attorneys general took legal action against unscrupulous CCAs that engaged in deceptive, abusive, and unfair practices. For example, some Page 3

6 CCAs charged excessive fees, abused their nonprofit status, misrepresented the benefits and likelihood of success of their programs, and committed other deceptive and unfair acts. The Internal Revenue Service (IRS) also undertook a broad examination effort of CCAs for compliance with the Internal Revenue Code and revoked or terminated the federal tax-exempt status of some agencies. As federal and state actions cracked down on these consumer protection abuses, a growing number of consumers became unable to afford traditional DMPs. As a result, many companies began offering for-profit debt settlement services for consumers. Debt settlement companies offer to negotiate with consumers creditors to accept lump sum settlements for less than the full balance on the consumers accounts. The process typically requires consumers to make monthly payments to a bank account from which a debt settlement company will withdraw funds to cover its fees. Some companies require consumers to set up accounts at specific banks, while others allow consumers to use their existing bank accounts. These monthly payments must accumulate until the consumer has saved enough money for the debt settlement company to attempt to negotiate with the consumer s creditors for a reduced balance settlement. 3 Debt settlement companies typically charge a fee for their services and require payments either at the beginning of the program as an advance fee or after settlement as a contingent fee. Some companies structure the payment of advance fees so that they collect a large portion of them as high as 40 percent within the first few months regardless of whether any settlements have been obtained or any contact has been made with the consumer s creditors. Others collect fees throughout the first half of the enrollment period in advance of a settlement. Companies that charge a contingent, or back-end, fee generally base it on a certain percentage of any settlement they obtain for consumers. They sometimes charge a small, additional fee every month while consumers are attempting to save funds for settlements. In addition, some debt settlement companies handle only one part of the overall settlement process, such as the front-end marketing 3 Some creditors may sell a consumer s debt to a collection agency after the consumer misses payments for a given period of time typically 6 to 12 months. The collection agency will then attempt to collect payments from the consumer. In such cases, debt settlement companies will generally negotiate with the collection agency seeking the consumer s money. Page 4

7 or the negotiation with creditors, while other debt settlement companies conduct every part of the process themselves. Currently, there has been only limited federal action taken against debt settlement companies. Since 2001, FTC has brought at least seven lawsuits against debt settlement companies for engaging in unfair or deceptive marketing. 4 In August 2009, FTC issued a Notice of Proposed Rulemaking to amend the Telemarketing Sales Rule (TSR) to enhance consumer protections related to the sale of debt relief services, 5 including debt settlement services. 6 In its notice, FTC offers multiple criticisms of the debt settlement industry and states that its concerns begin with the marketing and advertising of the services, but also extend to whether such plans are fundamentally sound for consumers. The proposed rule would amend the TSR to do the following, among other things: prohibit companies from charging fees until they have provided debt relief services to consumers; 7 require companies to disclose certain information about the debt relief services they offer, including how long it will take for consumers to obtain debt relief and how much the services will cost; and, prohibit specific misrepresentations about material aspects of debt relief services, including success rates and whether a debt relief company is a nonprofit. In its notice, FTC demonstrates that the requesting or receiving payment of advance fees before debts are settled meets its criteria for unfairness, and therefore designates advance fees for debt settlement services as an abusive practice. FTC considers advance fees an abusive practice due to the following: 4 FTC s regulatory authority related to false advertising is contained in section 5(a) of the Federal Trade Commission Act (15 U.S.C. 45(a)), which makes unlawful both unfair and deceptive acts or practices that affect interstate commerce. 5 The notice primarily discusses three categories of debt relief services credit counseling, debt settlement, and debt negotiation. While some consider debt negotiation to be another term for debt settlement, FTC refers to debt negotiation as a separate type of debt relief service. In this context, debt negotiation companies are those that offer to obtain interest rate reductions and other concessions from creditors on behalf of consumers, but do not claim to obtain full balance payment plans or lump sum settlements for less than the full balance. See 74 Fed. Reg , (Aug. 19, 2009) Fed. Reg (Aug. 19, 2009). 7 Under the TSR, advance fees are currently banned for several other industries, including credit repair services and advance fee loans. Page 5

8 the substantial injury to consumers caused by advance fees, based on the low likelihood of success for debt settlement programs and the significant burden on consumers paying advance fees especially fees charged at the front end of a debt settlement program, which FTC states ultimately impede the goal of relieving consumers debts; the injury to consumers caused by advance fees outweighing any countervailing benefits; and, the business practices prevalent among debt settlement companies making the injury to consumers reasonably unavoidable, such as representations in advertisements obscuring the generally low success rates of debt settlement. FTC also states in its notice that many consumers entering debt settlement programs are counseled to stop making payments to their creditors in order to facilitate settlements, which has a harmful effect on these consumers credit scores. Given the absence of specific federal law, some states have taken the initiative and enacted their own legislation regulating the debt settlement industry. The regulations vary widely from state to state, however. For example, Virginia s detailed legal framework requires debt settlement companies to apply and pay for an operating license, to enter into written agreements with potential customers that describe all services to be performed and provide the customer a right to cancel at any time, and to charge only a maximum $75 set-up fee and $60 monthly fee, among other restrictions. 8 Other states, such as Arkansas 9 and Wyoming, 10 have chosen to simply ban most types of for-profit debt settlement companies from operating in their states at all. Individuals who violate those states bans are guilty of a misdemeanor and could face up to 1 year imprisonment in Arkansas and up to 6 months imprisonment in Wyoming. On the other hand, New York and Oklahoma, among others, have not yet enacted any laws specifically targeting this industry, thus leaving the public to rely on generally applicable consumer protection laws. 8 Va. Code Ann Ark. Code Ann to Wyo. Stat. Ann to Page 6

9 Covert Testing Shows That Some Debt Settlement Companies Engage in Fraudulent, Abusive, and Deceptive Practices Our investigation found that some debt settlement companies engage in fraudulent, deceptive, and abusive practices that pose a risk to consumers already in difficult financial situations. The debt settlement companies and affiliates we called while posing as fictitious consumers with large amounts of debt generally follow a business model that calls for advance fees and stopping payments to creditors practices that have been identified as abusive and harmful. While we determined that some companies gave consumers sound advice, most of those we contacted provided information that was deceptive, abusive, or, in some cases, fraudulent. Representatives of several companies claimed that their programs had unusually high success rates, made guarantees about the extent to which they could reduce our debts, or offered other information that we found to be fraudulent, deceptive, or otherwise questionable. We did not actually use the services of any of the companies we called. A link to selected audio clips from these calls is available at: Advance Fees The debt settlement companies we called generally represented that they would collect fees before settling our debts a practice FTC has proposed banning due to the harm caused to consumers. We were able to obtain information about fee structures from 18 of the 20 companies we called while posing as fictitious consumers with large amounts of debt, 11 and found that their fee structures generally recall the concerns expressed by FTC. Specifically, we found that 17 of the 20 companies represented that they collected advance fees before debts were settled. Company representatives told us that the advance fees are calculated based on a percentage of the consumer s debts to be settled, citing figures that ranged from 10 to 18 percent. Moreover, representatives from several companies told us that our monthly payments would go entirely to fees for up to 4 months before any money would be reserved for settlements with our creditors. Only 1 of the 20 companies we called represented that it followed a contingent fee model based on a percentage of the reduction of debt it says it obtains for consumers. Representatives from this company said a fee equal to 35 percent of each client s reduced debt was charged. Some companies also represented that they assessed monthly maintenance and other additional fees. One of the 17 advance-fee 11 Of the two companies for which we were unable to obtain fee information, one company presented an audio recording of general information about its program, and one company s representative told us we did not have enough debt to qualify for its program. Page 7

10 companies also revealed that it charged a contingent fee after each debt is settled based on a percentage of the debt reduction. FTC has banned advance fees in several industries, such as credit repair, based on analyses that determined these practices to be unfair because sellers often do not provide the services for which they charge. The agency has proposed a similar ban for debt settlement, stating that the advance fees cause substantial injury to consumers. FTC justified this stance toward debt settlement, in part, based on the following findings: advance fees induce financially strapped consumers to stop making payments to their creditors; and consumers are unlikely to succeed in debt settlement programs, given evidence from federal and state agencies that generally shows single-digit success rates. 12 Moreover, FTC stated concerns in its notice that advance fees for debt settlement may actually impede the process of saving money to settle debts, especially substantial fees collected at the beginning of a program. This business model may be especially risky for consumers who are already in financially stressed conditions, given that interest, late fees, and penalties often continue to accrue on the consumers accounts as they work to save money toward settlements. In addition, consumers with already limited financial resources may be unable to direct adequate funds toward saving for settlements if their resources are being devoted to paying fees. We asked representatives of some companies what services we would receive as we paid advance fees while saving money for settlements. These representatives generally stated that our advance fees would pay for financial education, updates from attorneys, and communications with our creditors such as cease and desist letters, to attempt to prevent harassing telephone calls. One representative, however, was unable to provide an explanation of what services we would receive for our advance fees beyond the fact that her company s attorneys would look at our accounts every month. Several companies we called had basic financial education resources on their Web sites or provided links to such resources by . Industry representatives have stated that advance fees are needed to cover essential operating costs, such as overhead and providing the types of services mentioned above for their existing clients. However, FTC found that marketing and acquiring new customers make up a large portion of the operating costs for debt settlement companies. We were 12 Federal and state agencies have defined success as consumers being able to obtain the results that the debt settlement companies promised them. Page 8

11 unable to verify whether any companies we called provide ongoing services for clients they enroll in their programs, given that we did not enter into business relationships with them. Directing Consumers to Stop Paying Creditors We also found that the companies we called generally follow a business model that poses a risk to consumers by encouraging them to stop making payments to their creditors, a practice that harms consumers because of the damage it typically causes to their credit scores. Representatives of nearly all the companies we called 17 out of 20 advised us to stop paying our creditors, by either telling us that we would have to stop making payments upon entering their programs or by informing us that stopping payments was necessary for their programs to work, even for accounts on which we said we were still current. The following quotes demonstrate some of the statements made by representatives of the companies we called regarding our payments to creditors: You stop paying, uh, those payments out to those creditors. The only thing you re going to have to worry about is this payment here [to company]. One-hundred percent of our clients stop making their monthly payments as soon as they enroll into the program. I won t tell anybody not to pay their bills; I said one-hundred percent of the clients who have been successful have stopped paying their bills. Say you enrolled in the program. At that point you would no longer make any of your credit card payments. All of them would go late. Among the 17 companies encouraging us to stop paying our creditors or representing that stopping payments is a condition of their program, 13 5 were members of an industry trade group called The Association of Settlement Companies (TASC) at the time we made our calls. TASC s written standards, adherence to which is required of all member companies, explicitly state No Member shall direct a potential or current client to stop making monthly payments to their creditors. A representative of 1 of these 5 TASC member companies told us that she could not direct us to stop paying our creditors, but later stated that if we could afford to make our payments then her program was not the best solution for us. In addition, a representative of 1 of these 5 TASC member 13 As stated above, some companies we called referred us to one or more affiliates. We were unable to determine the relationship between these companies and their affiliates. Page 9

12 companies appropriately screened us out by telling us that we had too low of income to afford that company s program under the scenario we presented; he later described his company s program as requiring clients to stop making their payments. In addition to these 5 TASC member companies, we spoke to a representative from another TASC member company who told us that we did not have enough debt to qualify for that company s program. In addition, 4 of the companies that told us to stop paying our creditors or represented that stopping payments was a condition of their program were members of a different industry trade group called the United States Organizations for Bankruptcy Alternatives (USOBA) at the time of our calls. According to USOBA representatives whom we interviewed, its member companies do not tell potential clients to stop paying their creditors. We received particularly good advice from a representative of 1 additional USOBA member company not among the 4 listed above whose representative told us that we should worry about taking care of our late mortgage payments before we worried about settling our credit card debts. Stopping payments to creditors results in damage to consumers credit scores. According to FICO (formerly the Fair Isaac Corporation), the developer of the statistically based scoring system used to generate most consumer credit scores, payment history makes up about 35 percent of a consumer s credit score. Moreover, the damage to credit scores resulting from stopping payments is generally worse for consumers who have better credit histories such as consumers who maintained good payment histories prior to entering a debt settlement program that required them to stop making payments. In its notice, FTC also discussed the harmful effect that stopping payments has on consumers credit scores. Success Rates In several cases, representatives of companies we called claimed success rates for their programs that we found to be suspiciously high 85 percent, 93 percent, even 100 percent. In its notice, FTC cites claims of high likelihood of success as a frequent representation in the debt settlement industry. The success rates we heard are significantly higher than is suggested by evidence obtained by federal and state agencies. When these agencies have obtained documentation on debt settlement success rates, the figures have often been in the single digits. For example, as part of an annual registration process in Colorado, the state s Attorney General compiled data on success rates for all debt settlement companies statewide. The data show that, from 2006 to 2008, less than 10 percent of Colorado consumers successfully completed their debt settlement Page 10

13 programs. Our case studies discussed below provide additional evidence of similarly low success rates. Industry-reported data have claimed a higher success rate for debt settlement programs. According to TASC, data gathered from a survey of some of its largest member companies in 2009 shows that 34.4 percent of consumers participating in a debt settlement program offered by a TASC member company completed their debt settlement programs by settling at least 75 percent of their enrolled debts. 14 A previous study released by TASC in 2008 claimed overall completion rates between 35 and 60 percent. However, federal and state agencies have raised concerns with the methodology behind TASC s data. For example, these agencies have argued that (1) TASC s data were self-reported by its member companies, and may not reflect all member companies; (2) not every TASC member company that submitted data defined completion in the same way; and (3) the fact that consumers complete a debt settlement program does not necessarily imply that these consumers successfully obtained the debt relief services for which they paid. We did not attempt to validate success or completion data from TASC or federal or state agencies. TASC and USOBA have cited several factors that might contribute to consumers success rates in debt settlement programs, such as that most consumers entering debt settlement programs are in extreme financial hardship and may choose to quit their program after settling some debts and improving their financial situations. However, FTC stated in its notice that the prevalent fee structure in the debt settlement industry substantial up-front fees may be a major factor in the generally low consumer success rates as well. TASC and USOBA have both offered suggestions for ways to boost consumer success rates, such as improved processes for determining consumers suitability for debt settlement programs. Debt settlement success rates also play a key role in the BBB rating system for companies in the industry. Due to the volume and nature of 14 While TASC requires its member companies to make a series of disclosures in its discussions with potential clients, the individual completion rate for each company s program or the 34.4 percent overall completion rate mentioned in TASC s study are not among the required disclosures. Page 11

14 consumer complaints, 15 among other factors, BBB recently designated debt settlement as an inherently problematic type of business and, in September 2009, implemented new rating criteria for debt settlement companies to reflect this designation. Under this designation, no debt 16 settlement company may earn a BBB rating higher than a C -. While BBB has designated other types of businesses as inherently problematic such as pay-day loan centers, businesses that charge fees for publicly available information on government jobs, scientifically unproven medical devices and products, advance fee modeling agencies, and wealth-building or real estate seminars debt settlement companies are the only type of business currently allowed by BBB to escape the inherently problematic designation if they provide evidence to BBB that they meet a series of criteria. These criteria require a debt settlement company to prove, among other things, that: It has substantiated all advertising claims, including claims relating to the benefits or efficacy of debt settlement; It makes certain disclosures to consumers, including clear and conspicuous disclosure of program fees and the risks of debt settlement; It has adequate procedures for screening out consumers who are not appropriate candidates for debt settlement; and A majority (at least 50 percent) of its clients successfully complete its program and obtain a reduction in debt that is significant and exceeds the fees charged by the company. 15 According to data it provided to us, BBB has received thousands of complaints about debt settlement companies in recent years, with the number of complaints rising from 8 in 2004 to nearly 1,800 in This figure may underestimate the total number of complaints related to debt settlement, as not all companies providing debt settlement services are classified as debt settlement companies by BBB. According to BBB, these complaints are related primarily to debt settlement companies: (1) charging advance fees without providing services as promised to consumers and sometimes without providing any services at all; (2) failing to disclose important information to consumers, such as unannounced fees; and (3) failing or refusing to provide refunds to consumers. 16 According to BBB, its rating system uses grades based on a proprietary formula that incorporates information known to BBB and its experience with the business under assessment. The ratings are intended to represent BBB s degree of confidence the business is operating in a trustworthy manner and will make a good faith effort to resolve any customer concerns. The rating system uses grades from A to F, with plusses and minuses, so that A + is the highest grade and F is the lowest. Some debt settlement companies may currently have a BBB rating higher than a C - because they were misclassified (e.g., characterized by BBB as something other than a debt settlement company) or because debt settlement does not represent a substantial portion of its services. Page 12

15 According to a BBB official, he was unaware of any debt settlement company that had yet successfully demonstrated that it met these criteria, as of March Officials from TASC and USOBA told us they strongly disagree with BBB s new rating system for debt settlement companies. According to these officials, the new rating system minimizes the importance of resolved consumer complaints, requires an unrealistic measure of programs success rate 50 percent and inhibits consumers ability to differentiate between reputable and disreputable debt settlement companies. Guaranteed Reductions in Debt Representatives from some companies also guaranteed or promised that they could obtain minimum reductions in our debts if we signed up for their services. For example, some representatives stated that they would save us 40 to 50 cents on the dollar once they negotiated settlements with our creditors. In its notice, FTC cites claims of specific reductions in debt as an example of a consumer protection abuse in the debt settlement industry. Fraudulent or Other Deceptive Representations We found examples of companies offering fraudulent or other deceptive information, such as using names and imagery for their services that indicates that their program is linked to the government. Table 1 below shows examples of fraudulent or deceptive information from companies we called. Page 13

16 Table 1: Examples of Fraudulent or Deceptive Information Provided by Debt Settlement Companies We Called No. Representation Comments 1 Debt settlement companies are licensed and regulated by TASC, which is like the SEC [United States Securities and Exchange Commission] for stock traders. 2 Stopping payments will knock [credit score] down a couple of points However, unlike bankruptcy or any other credit counseling program, this only affects your credit while you re in the program. 3 Debt settlements will be noted on consumers credit reports as paid in full or paid as agreed. 4 Company advertises a National Debt Relief Stimulus Plan. 5 Company promised that calls from creditors seeking money will slow down and eventually stop if we just told our creditors we had hired the company. Source: GAO. TASC is a nonprofit trade association that lobbies lawmakers on behalf of the debt settlement industry. It is not a licensing or regulatory authority. According to FICO, stopping payments to creditors as part of a debt settlement can drop credit scores anywhere between 65 to 125 points. In addition, missed payments leading up to a debt settlement can remain on a consumer s credit report for 7 years even after a debt is settled. According to FICO, settlements are typically listed on consumers credit reports as settlement accepted on the account or settled for less than full balance. The company s services are not affiliated with a government program or part of the American Recovery and Reinvestment Act of 2009 (the stimulus ). Debt settlement companies cannot prevent creditors from contacting consumers. Companies often advise consumers to terminate all communication with their creditors, ask consumers to assign power of attorney to them, and send cease and desist letters to creditors in an attempt to cut off further communications. Five of our cases are highlighted below. The companies in these cases made multiple fraudulent or deceptive representations either to our fictitious consumers by telephone, on their Web sites and through company documents or to our staff during unannounced, overt site visits. Table 2 below shows basic information represented by these companies, including the location, fees, and industry trade association membership of each of these companies and their affiliates, if any. (Table 4 in appendix I provides summary information on all 20 companies we called.) Page 14

17 Table 2: Representations Made by Select Debt Settlement Companies We Called No. Location of company and affiliates Fees a Association membership b 1 Florida; affiliates in Florida, Massachusetts, California, and New Jersey b Advance fees based on 15% of enrolled debt, with monthly payments required throughout program TASC; c affiliates in TASC and USOBA Advance fees based on 12% of enrolled debt 2 Unknown; affiliates in Arizona, Texas, Affiliate in USOBA and California b First three monthly payments go to fees $25 monthly maintenance fee Additional contingent fee based on 4% of reduction in debt company obtains for clients 3 California Advance fees based on 16% of enrolled debt, TASC (at the time of our call) with monthly payments required throughout program First three monthly payments go to fees $100 fee for out-of-state clients 4 California Advance fees based on 17% of enrolled debt, TASC with monthly payments required throughout program First three monthly payments go to fees $840 maintenance fee (total throughout program) $ trust account fee (total throughout program) 5 California Advance fees based on 15% of enrolled debt TASC (at the time of our call) Source: GAO analysis of information obtained from debt settlement companies. a Fee information reflects fees disclosed to us; some companies may charge additional fees that were not disclosed. Debt settlement companies typically charge fees requiring payments either at the beginning of the program as an advance fee or after each settlement as a contingent fee. Some companies structure the payment of advance fees so that they collect a large portion of them as high as 40 percent within the first few months regardless of whether any settlements have been obtained or any contact has been made with the consumer s creditors. Others collect fees throughout the first half of the enrollment period in advance of a settlement. Companies that charge a contingent fee generally base it on a certain percentage of any settlement they actually obtain for consumers. They sometimes charge a small, additional fee every month while consumers are attempting to save funds for settlements. b Some companies we called referred us to one or more affiliates. It was not always clear to us exactly with which company or affiliate we were speaking, where the companies or affiliates were located, or what the relationships were between the companies and affiliates. In some cases, separate affiliates of the same company claimed to be members of different industry trade associations. c While Company 1 claimed to be a member of TASC, it appears this was a false representation. Company 1 Company 1 made several fraudulent and deceptive representations. We identified Company 1 when one of our investigators received an unsolicited spam message through his private account advertising debt settlement services, with a mailing address in the country of Lebanon listed at the bottom. A link in the message brought us to a Web site Page 15

18 advertising New Government Programs! New free and easy programs are available for those who are in debt right now! Take advantage while they re still avaiable [sic]. (See figure 1 below.) The Web site also featured logos for TASC and BBB, along with other insignias declaring Satisfaction Guaranteed and Privacy 100% Guaranteed. When we called the number listed on the Web site, a representative answered using the name of an affiliate different than the company name listed on the Web site. He explained that the Web site was a generic advertisement to spread information about his company. Throughout our conversation, he made multiple statements that we found to be deceptive or questionable. According to the representative, the worst case scenario for settlement of our debts would be 40 cents on the dollar. He stated that his company has helped 100 percent of its clients get out of debt in 3 years or less, and that every single creditor settles. There s not one creditor we haven t been able to reach a settlement with. When asked about the government programs advertised on the Web site, he replied What we re offering is not part of any government program whatsoever. It s just that the government is allowing this to take place at this time. The government is putting pressure on banks to allow things like this so that, you know, there s no more bankruptcies or things along those lines. Even though the Web site displayed a TASC logo, we were unable to find either Company 1 or this affiliate on TASC s member directory. The executive director of TASC confirmed to us later that neither Company 1 as it listed itself on its Web site nor this affiliate is a member of the organization. The affiliate s Web site displays a logo for USOBA, and we confirmed its membership with that organization. Figure 1: Fraudulent or Deceptive Advertising Claims Featured on Company 1 s Web Site New Government Programs! New free and easy programs are available for those who are in debt right now! Take advantage while they re still avaiable. IF WE CAN T GET YOU OUT OF DEBT IN 24 HOURS We ll Pay You $100 Source: Debt settlement company Web site. Images enhanced by GAO. Page 16

19 Shortly after we called Company 1 the first time, we noticed that the Web site contained some changes when we attempted to leave the Web site on later visits, a pop-up message appeared declaring If we can t get you out of debt in 24 hours we ll pay you $100! (See figure 1 above.) We called Company 1 again and a representative said that he was with Company 1. He later stated that he was actually with an affiliate of Company 1 a different affiliate than the first representative with whom we spoke. He described the Web site for Company 1 as a landing page used to attract business to his company. This second representative also offered deceptive or questionable information, such as a 93 percent success rate for his program. When asked about the government programs advertised on Company 1 s Web site, he replied that the government program was related to creditors ability to obtain tax credits from the IRS for the debts they sell to collection agencies. Regarding the offer to get consumers out of debt within 24 hours, he said that this was for clients who have the financial resources to make a large lump sum payment at the very beginning of the program. However, he added that ninety-nine point nine percent of the people that come to us do not have the ability to do that. When we asked about the risk of being sued by our creditors, he told us that a judgment is nothing more than a fancy I.O.U. We were able to find this second affiliate on TASC s member directory, and the executive director of TASC later confirmed that this affiliate is a member of TASC. 17 We made a site visit to Company 1 in Florida. The owner of Company 1 admitted that the company does not really exist and is really just a marketing Web site, and told us he actually owns a different company that offers both debt settlement and mortgage modification services. He claimed that he did not know that Company 1 s Web site contained information about an alleged government program, and logos for TASC and BBB. However, he acknowledged that neither Company 1 nor his real company is a member of TASC despite the logo featured on the Web site. 18 When asked about the offer to get consumers out of debt within 24 hours, he replied that this was a typo and that the offer should say 24 months rather than 24 hours. 19 Our investigators observed employees at the 17 We also identified an additional Web site at a different address that was nearly identical to the one that referred us to the two representatives discussed above, with the same phone number and logos for TASC and BBB, but listing what appeared to be a different company name entirely. 18 TASC s executive director confirmed that Company 1 is not a member. 19 Prior to our site visit, we found a testimonial from an alleged client on Company 1 s Web site claiming that Company 1 helped her to cut her monthly bills in half in 24 hours. Page 17

20 location listed for Company 1 representing on the telephone that they were employees of the second affiliate mentioned above. Moreover, when the owner of Company 1 gave our investigators a copy of the script his employees use when speaking with potential clients, the text of the script implied that they were representatives of the second affiliate. We were unable to determine the actual relationship, if any, between Company 1, its affiliates, or the other company the owner claimed he runs. Company 2 Company 2 s online and radio advertisements feature multiple fraudulent or deceptive claims. The company s Web site advertises that its services will Reduce balances to 40% - 60%, Eliminate excessive Credit Card Debt interest immediately, and End late payment fee s [sic]. When we called Company 2, it referred us to at least 3 different affiliates. It was not always clear exactly with which company s representatives we were speaking. 20 Representatives from these affiliates described Company 2 as a marketing group that referred potential clients to them. We also identified radio advertisements placed in several major cities purporting to be from Company 2, in which it claimed to offer a government authorized and government approved debt settlement program. When we called the telephone number listed in one of the radio advertisements, a representative answered from one of the affiliates of Company 2 that we had spoken to earlier. When asked about the government-approved debt settlement program, the representative acknowledged the radio advertisement and replied it is government approved. They allow for us to do this. You know, the banks received, you know, bailout money last year. I m sure you saw it on the news. There has to be some type of assistance for people on a consumer level also. According to this representative, Company 2 runs similar advertisements on television and radio stations nationwide. We were unable to visit Company 2 because we could not determine its physical location. However, we visited the affiliate whose representative discussed the radio advertisement with us, which is located in California. Officials from this affiliate told us that their company is the most legitimate debt settlement company, and that their employees receive 20 A recent report by the Maryland Consumer Rights Coalition stated that debt settlement companies often seem a many-headed Hydra with parent companies split from other divisions that handle the marketing and solicitation. The report further states that this division of services causes confusion for consumers trying to track the progress of their debt settlement, and for agencies attempting to enforce compliance. Page 18